There are two key things investors typically do not pay sufficient heed to – investment cycles and risks. The best performing funds (when measured over medium terms of say 3-5 years), have often achieved this by riding a positive single-sector investment cycle, combined with either a concentrated or specialised (and sometimes unique) risk characteristic. It’s rare to find a well-diversified, multi-sector fund at the very top of performance tables.
Two of the best-performing KiwiSaver funds (according to Morningstar) over the three years ended 30 June 2019 have been the Booster Trans-Tasman Share Fund (14.5% pa) and the Booster Geared Growth Fund (14.4% pa). The former Fund has been riding the current up-cycle of the booming single NZ Share market sector, and the latter Fund has used leverage (a specialised AND unique risk) to ride the broader equity market up-cycle.
When the cycles and risks align, returns can be spectacular over the medium term. However, when these change (and they WILL change at some point), the unsuspecting investor could be facing a nasty shipwreck. This can often be the case because the investor has been seduced by the performance siren call, without properly understanding the nature of the cycles and risks that drove the top performance in the first place.
Let’s look at our two best performing fund examples again. The Booster Trans-Tasman Share Fund’s greatest risk is that of a significant setback in the local NZ share market. This could be driven by any number of localised factors (e.g. an economic downturn), but the fund inherently has a high relative risk because it is not diversified across a wide range of share markets. The Geared Growth Fund has the highest relative risk simply because it is 135% invested in shares through the borrowing it undertakes. Whilst this (relatively conservative) gearing is expected to deliver great long-term results (15-20 years +), there is a 1% chance (i.e one year in 100) it could deliver a negative annual return of more than -30%. For the unsuspecting investor, this could result in jumping ship at exactly the wrong time!!
Much like the classical myth of Odysseus navigating the lethal charms of the Sirens, the best course of action to avoid the siren call of best performing funds is to block your ears and stay the course with the right investment fund for you!
To be clear though, if your time horizon is very long term, say 15 years +, then the Geared Growth Fund may well be the ship to sail you to a great retirement! Just make sure you understand the short-term risks, so you don’t jump overboard when the seas get rough.